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The other side of debt

This post is sparked by the debate that there has been in the last few days around Positive Money's proposals for reform of the monetary system in the UK. You can read their proposals here. I'm not in this post aiming to debunk Positive Money's ideas so much as to clarify for people's benefit the nature of our debt money system and how fractional reserve banking works in practice. If more people understood how things REALLY work (rather than what the textbooks say) we would be better able to have a sensible debate about how we want it to work in future.

The matter I want to address in this post is relationship between debt and savings. Positive Money correctly describe the way bank lending works, but they ignore the impact on savings, and therefore tell only half the story. And in the course of the debate it became apparent that there are many people who simply don't understand the relationship between debt and savings. Yet the relationship between debt and savings is fundamental to our monetary system. The other side of debt is savings. For every debt there are equivalent savings, so across the monetary system as a whole debt and savings are equal

Now before someone screams at me that it's obvious that there's more debt than savings, innit, because bank lending far exceeds bank deposits, let me define what I mean by debt and savings.

Debt is deferred payment for goods or services desired now, or in economics-speak, "consumption brought forward". For example, you need a new car, now, but you haven't saved up enough money to pay for it outright. So you borrow the money. You are prepared to pay more for the car than the current price, because you benefit from being able to use the car now and defer part of the payment until later. You therefore pay your lender interest on that borrowing. The total cost to you of that car is not the amount you pay to your dealer, it is the loan principal plus all the interest payments over the course of the loan, discounted by the rate of inflation over the period of the loan, minus any deposit you pay now from your own savings.

There are many different forms of bank lending. From an economic point of view, though, the major difference is between committed and uncommitted lending. In committed lending, such as a bank loan, the money is legally committed to you at the time the agreement is signed and cannot subsequently be withdrawn without notice. In uncommitted lending, such as an overdraft, a credit facility is granted to you which you MAY use, but the undrawn portion of the facility can be withdrawn at any time without notice. I've generalised here considerably, and legal eagles out there will no doubt say I've simplified far too much - bank lending agreements are far more complex and the distinction between committed and uncommitted lending is not always clear. But it will do as a general principle.
Banks aren't the only source of debt. Issuing bonds is a form of debt financing for large corporations and governments. Any individual or financial institution that purchases and holds bonds is in effect lending to the issuers of those bonds. I'm not in this post going to address how bond issuance and trading works, but corporate and government bonds make up a significant part of global debt. And they are important to ordinary people: anyone with a private or corporate pension almost certainly has significant holdings of government and blue-chip corporate debt.

Savings are deferred spending (deferred consumption). You don't need to spend all of your wages this month (lucky you), so you put some of it in the bank. Or you choose not to spend all of your wages in order to put money aside for spending at a later date - for example, when you are too old to work. You want to put your money somewhere that will earn you a return on your deferred spending, partly to compensate for the erosion of the value of those savings by inflation, and partly because by choosing not to spend that money now you are forgoing the pleasure you might receive from, for example, having a fantastic holiday.

There are many forms of saving. Bank deposit accounts (including current accounts) are one form. Others are pensions, ISAs, long-term savings plans (endowments), shares and bonds, gold and other precious metals, art, wine and property. The last of these - property - is particularly important because a high proportion of the UK's population have their savings principally tied up in the house they live in. Even if they have a mortgage, the difference between the present value of the house and the amount outstanding on the mortgage - their "equity" - is their savings. When house prices rise, existing home owners benefit because their savings increase. Conversely, new buyers have to take on more debt. The increase in debt among new home owners balances the increased savings of existing home owners.

Overall, the people of the UK now have far more savings outside bank deposit accounts than they have in them. That's why, if you only look at banks, it looks as if there is far more debt than savings. But when you take into account other forms of saving - including tax, which is government savings (tax extinguishes government debt obligations, which is equivalent to saving), and bank and corporate retained earnings, which are the savings of shareholders - it becomes evident that globally, debt=savings. That is why it is very wrong, and very dangerous, to suggest (as some have done) that debt is made of "imaginary money" which can simply be wiped out cost-free. No it isn't, and it can't. Wipe out debt, and you also wipe out savings.

Financial intermediation is the process by which borrowers obtain from savers the money they need to buy things. Or alternatively, the process by which savers obtain from borrowers the interest they need to maintain the value of their savings over time and compensate them for not spending that money themselves. Banks and other financial institutions act as financial intermediaries, lending to borrowers at interest and paying interest to savers. They make money by paying less to savers than they charge to borrowers - that is known as the "spread". And they accept and manage the risks inherent in lending to borrowers over a long period of time while allowing savers to remove their funds if they wish.The money supply is the total amount of various types of money in circulation. "Money" in this case pretty much means anything that will be accepted by somebody as payment for a product or service. "Base money" is notes & coins plus bank reserve balances at the Bank of England (more on this later). "Broad money" is all other versions of money, including balances in bank deposit accounts and various types of commercial paper.

Fractional reserve banking"Fractional reserve banking" is the process by which banks intermediate between borrowers and savers. It is commonly believed that banks "lend out" deposits. Banking and economic textbooks are full of descriptions of banks lending and re-lending fractions of deposits. Sadly those textbooks are wrong in one important respect: they assume that deposits precede lending. No, they don't. What actually happens, as I've explained previously, is that banks lend, and then look for reserves to settle the drawdown of that lending. The accounting entries for a new bank loan for £10,000 are as follows:Customer loan account: £10,000 DR Customer deposit account: £10,000 CR The loan account debit represents the customer's DEBT, which is the bank's ASSET.The balancing customer deposit account credit is the actual money advanced by the bank, which is the bank's LIABILITY. It is usually a credit to a demand deposit account such as a current account, and can be drawn in cash or paid out by bank transfer or cheque in the same way as any other deposit. It is not possible to distinguish in any meaningful way between a deposit created from a bank loan and a deposit made by the customer.Demand deposit account balances form part of bank reserves - not capital. This distinction is important, as I describe here. Bank reserves are required to settle deposit withdrawals, including loan settlement, but they are not referenced at the time the loan is granted. And demand deposit balances are included in the measures of "broad money" supply in the economy. So the creation of a new deposit without drawing on underlying reserves has the effect of increasing the amount of money in circulation - as Positive Money correctly claim. Therefore, in my example above, when these accounting entries are made "broad money" increases by the amount of the deposit. That new deposit behaves in all respects like any other sort of deposit. You can draw it in cash or you can pay your car dealer by bank transfer or cheque. If you draw cash the bank must physically have cash to pay you – as with any other deposit withdrawal. Banks estimate their cash requirements on a daily basis based on withdrawal patterns across their customer base. Sometimes they do run out, of course. I’m sure you have all experienced trying to get money out of an ATM over a bank holiday weekend. And most banks require notice of large cash withdrawals.If you pay your car dealer by bank transfer or cheque then no cash is involved. The accounting entries are as follows:

Your money advance has now become your car dealer's deposit. In the process your bank has drawn on its reserve account at the Bank of England (sort of like its current account) and is now running an overdraft. Conversely, your car dealer's bank now has excess reserves at the Bank of England.

Banks have to balance their Bank of England reserve accounts at the end of each day. If they have a negative balance (more money drawn than received) they borrow from other banks which have credit balances, or as a last resort directly from the central bank. It isn’t possible for a bank to run an overdraft overnight on their reserve accounts. They have to borrow the money from somewhere, and they pay interest on those loans.

Your bank could of course borrow your deposit back from your car dealer's bank to clear its reserve overdraft. It's sort of circular. And it gets even more circular if you and your car dealer bank at the same bank and you pay him by bank transfer, which clears during the day. In this case there is no impact on interbank settlement or BoE reserve accounts. Your loan is in effect funded by its own deposit. But the bank still pays interest on that funding - even current accounts attract interest, pitiful though it is. The example I have given above is of a committed loan, of course. In uncommitted lending no deposit is created and the liability remains off balance sheet until it is drawn. On drawdown settlement funding applies as I have described. Whether or not drawdown of uncommitted facilities increases the money supply is a matter of debate: personally I think it does, because a new deposit is created in the recipient's bank for the amount of the drawdown. I hope I have shown through the example above how lending creates new money that then inflates savings as well. Overall, household debt has increased by £10,000, small business savings have increased by £10,000, and broad money supply has increased by £10,000. But to argue, as some have done, that banks don't need to borrow to settle loans because they can invent the money, is simply wrong. Reserve and capital constraints on lendingSince banks lend in advance of obtaining reserves for settlement, it's not in any way meaningful to regard bank lending as constrained by the availability of reserves. And because of the money creation involved in lending, there is NEVER a shortage of reserves for settlement provided banks are willing to lend to each other. If for any reason banks become unwilling to lend to each other - as we are seeing at the moment in the Eurozone - central banks provide settlement funding ("liquidity") at penalty rates. Under the present system bank lending is capital constrained, not reserve constrained. How much credit a bank can create is governed by the ratio of shareholders’ funds and retained earnings (money it DOESN’T OWE TO ANYONE, which is its capital base) to what we call “risk weighted assets”, which are a way of valuing loans by their risk. Each new loan drains an amount of capital proportionate to its risk weighted amount. Banks can only lend within their capital ratios. In the run up to the 2007 crash the capital ratios were much lower than they are now and were widely ignored anyway. Now capital requirements are much higher, which limits lending, and hopefully regulators are being tougher about enforcing them. The problem with this is of course that calculating risk weightings is a bit of a black art, and risk classifications can be intrinsically wrong: e.g. sovereign debt is weighted at zero, which means banks can lend unlimited amounts to governments because their debt is assumed to be risk free – but we all know that’s not true, don’t we? So regulators are trying to move towards constraining leverage as well, which is the ratio of capital to deposits. As each loan creates an equal deposit, forcing banks to restrict their leverage would also have the effect of limiting lending.

Positive Money would like to change this, of course. In effect their proposal is to introduce reserve constraints on lending: they want banks to obtain reserves in advance of lending and only lend up to the limit of those reserves. They also want to force all banks to obtain reserves only from term deposits or from central bank liquidity: current accounts would be excluded, and banks would not be allowed to lend to each other. The MPC would be tasked with making sure the Bank of England created enough money to fund lending without increasing inflation. I know the MPC has a reputation for wizardry, but how on earth they are supposed to forecast lending needs versus inflationary pressures without resorting to clairvoyance is beyond me.

Conversely, the Independent Commission on Banking (ICB)'s proposal for bank reform envisages significantly increasing capital requirements, particularly for systemically-important banks with retail operations. The ICB (correctly, in my view) rejected Positive Money's proposals for bank reform on the grounds that they would be unnecessarily restrictive of credit. Instead, they proposed capital ratios for large banks that would go beyond the levels recommended by the Basel committee. Predictably, the banks have objected to the amount of capital they are being required to raise, on the grounds that it would hinder economic recovery.

There is no doubt that bank reform is necessary. There is also no doubt that it will be painful, not only for banks themselves but also for their customers, both borrowers and savers. Savers are receiving rubbish returns on their investments. Borrowers are finding it hard to get credit and are facing rising interest rates and charges. Whichever alternative is adopted - reserve-constrained lending, as Positive Money would like, or increased capital constraint, as the ICB proposes - the result will be that lending becomes more expensive and more difficult to obtain. The days of cheap and easy credit are gone - for now.

I didn't anywhere in this post suggest that paying off your mortgage increases your savings or someone else's debt. Your house has a value, which increases when house prices rise. If you pay off your mortgage you have simply replaced one sort of savings (excess income) with another (property). There is no effect on the debt or savings level elsewhere in the economy. However, there is a reduction in the money supply, since savings held as tangible assets aren't counted in broad money.

OK, just trying to get this straight. Each monthly mortgage payment goes against the interest and the principal. Are you saying that as I reduce the principal (a reduction in my debt) the bank's savings increase by the same amount?

1) You use excess income to pay off your mortgage. All of the equity in the house is now yours - your savings - but you have reduced other savings (excess income) to achieve that. You therefore have less debt but the same amount of savings.

2) The bank receives principal repayment in full. That extinguishes its claim on you - its asset - and therefore REDUCES its savings by an equal amount to the reduction in your debt. So far, so good?

3) Your interest payments are paid for either from excess income (so reducing your savings) or by taking on more debt. Therefore the bank's savings are INCREASED by the amount of your interest payments. It's not quite as simple as this, of course, but that's basically how it works.

Aha. If you're an accountant then you will recognise the balance sheet analysis underlying this post. Just remember that debt and savings are reversed from a bank's point of view. A cash balance in a deposit account from a commercial accounting point of view is an asset, but from a bank's viewpoint it is a liability. Similarly loans are liabilities commercially but assets to banks. Except the money they borrow themselves, of course, which is a liability.

I find balance sheet thinking very useful when trying to understand how debt and savings relate to each other.

Thanks for clarifying the system Frances. As a layman, as far as I can see, that system seems to sow the seeds of its own destruction. Let’s see if I’ve got it right…

Smiley Bank makes a loan to a Geezer so that he can buy a car that he can’t currently afford. Smiley Bank can’t afford to give the loan to Geezer – instead, it gets its big brother the Bank Of England to pay an equivalent loan into Bank Of Geezer, on the understanding that Smiley Bank will pay loan + some interest to the Bank Of England by the end of that same day.

No problem – Smiley Bank simply has ‘til sundown to find the money… from somewhere… No worries. Something’s bound to crop up. No, really. Everything’ll be fine. Trust me. I feel very confident about this!

Does that seem like sensible money handling to you?

That in itself would appear to inflate the cost of such loans to customers / Geezers, because Bank Of England interest has to be added (or factored in) to the cost of Geezer’s loan. i.e. interest that Geezer pays for the loan will need to be increased to pay for interest paid to the Bank Of England.

But it gets worse. If Smiley Bank can’t find the funds to clear its debt to the Bank Of England by sundown, Smiley Bank must borrow money from another bank – at an even higher interest rate – in order to pay-off the Bank Of England. That must further inflate the price of the loan to Geezer (or future Geezers).

What’s the consequence of all this?1) Banks get to lend out more money than they possess.2) Customers have to pay higher interest on those loans.3) Higher interest means more Geezers will default on their loan.

Of course - if Geezer can’t pay off the loan - the bank can repossess the car & sell it, but its used sale price will be substantially less than the value of the loan. Presumably Geezer could be pressed to make up the difference, but he can’t conjure money out of thin air. If he can’t pay… he can’t pay. Which saddles Smiley Bank with the debt. How do they recoup their loss? They hike up the interest rates on loans to Geezers!

As interest rates increase, ever more borrowers find themselves unable to pay off their loans. Unless I’m missing something, the banks appear to have constructed a system that was bound to fail eventually. It could only work as long as second-hand car prices were high, & interest rates remained low. Systemically, interest rates would be bound to spiral upwards eventually (due to increasing defaults, & the increasing need to use higher interest inter-bank loans).

It all seems so futile. What’s wrong with only lending out amounts of money that Smiley Bank already has in its coffers? Why all the rushing around trying to make banking ends meet?

I can’t see how it’s wrong to suggest that banks are conjuring money out of nowhere. The above example suggests that Smiley Bank could end up loaning money from itself, in order to finance that same unaffordable loan! e.g. Smiley Bank borrows money from Bank Of Geezer, in order to settle its debt with the Bank Of England, to finance the loan that Smiley Bank has given to Bank Of Geezer (via Geezer). A big fat hungry snake eating its own tail!

Return to Go – do not collect £200 - unless I can interest you in a loan…?

Very informative Frances. One thing I didn't realise is that you would include the equity one has in their home as savings. So when house prices fall people lose their savings but there is no corresponding reduction in debt. Therefore would it not be possible to, as Michael Hudson suggests, write down debt to the capacity to pay? ie make negative equity impossible.

I would imagine that a significant proportion of individuals' 'savings' is in their property equity. That's where it's all disappeared to. So write down the mortgage debt with it.

This is of course unless you come back and say that any fall in equity does, in fact, have a corresponding reduction in debt somewhere in the system. Which I'm sure you will say!

GweiryddOf course I'm going to say that. The offsetting debt reduction when house prices fall and existing owners lose their savings is of course that new home buyers take on less debt. It's the exact opposite of the present situation, where home owners' savings have increased due to house price inflation and new buyers therefore have to take on more debt.

It is very, very wrong to suggest that just because a bank doesn't have funds to settle a loan at the time the loan is granted it therefore "can't afford it". Not being able to afford a pint of beer is a solvency problem. Not quite having enough money with you to buy a pint of beer, and therefore having to borrow some off your mates (or get them to buy you a drink), is a liquidity problem. You may be completely solvent and still have major liquidity problems. Banks are illiquid by nature, so not having the funds available at the time and having to borrow to settle is NORMAL for them. It does not necessarily indicate that they are making loans they can't afford.

You've actually missed the whole point of the post, because you ignore savings completely - just as Positive Money does. If you ignore savings you only tell half the story and you therefore get it quite considerably wrong. Borrowing excess deposits (including those created through lending) to fund deposit withdrawals (including those created through lending) isn't something that desperate banks do as a last resort. It's the lifeblood of the banking system. Banks which have a positive reserve balance (i.e. excess deposits) are just as anxious to lend that out as those with a negative balance (i.e. excess loans) are to borrow it. It's a routine reserve balancing act that all banks do, which ensures that at the end of each day the overall reserve position across the banking industry is zero and therefore all banks are fully funded. It only goes pear-shaped when banks stop trusting each other. But if you ignore savings, then you can't possibly understand this.

You've also misunderstood the accounting. Daylight overdrafts at the Bank of England are not loans at interest - they are simply timing differences. Banks only pay interest to the Bank of England on reserve overdrafts if they fail to clear those overdrafts AT THE END OF THE DAY through other forms of borrowing.

The rates charged by banks for lending their deposits to other banks are actually lower than the rates paid to savers, believe it or not. You may even have seen savings accounts that quote rates as base+percent or LIBOR+percent. LIBOR is the rate at which banks lend to each other. So interbank lending is actually a cheaper form of financing for banks than deposits. Extensive reliance on interbank lending can actually enable banks to reduce interest rates to borrowers - as happened with Northern Rock. But it is higher-risk lending than deposits because it is very short-term.

Do remember that deposits don't belong to banks. They are bank debt, just the same as interbank loans or loans from the Bank of England. There is no difference from a reserve accounting point of view between deposit funding, interbank lending or central bank lending. The only difference is the interest rate the bank pays - and deposits are the most expensive unless for some reason the bank is paying penalty interest.

Thanks for an excellent article. You finish with the comparison between reserve constrained and capital constrained banking. I understand that capital constrained banking can be improved via tighter regulations but isn't there an argument that Basel 3 and the IBC recommendations are simply trying to fix a broken system.

Surely the problem is that even with the best regulator framework in the world banks will in times of growth find ways to talk down risks whilst offering apparent value to their various stakeholders (shareholders, government, savers and borrowers). This in turn leads to a situation where risks get ignored by the stakeholders as nobody wants to be the party pooper! The obvious consequence of this is that at some point banks find their assets are reduced in value (as the risk of default increases).

This presumably shrinks their assets side of their balance sheet meaning that equity and possibly some liability will be at risk. This in turn will make investors more risk averse, rendering it difficult for banks to raise new equity. Which in turn leading to a downward spiral for the banks where they cannot raise new equity, people start withdrawing liability (as they are seen to be at risk) and new lending into an economy is stopped.

Surely there is an argument that:- 1. A public body for deciding the amount of money banks can issue as debt would act as a useful circuit breaker.1. It would be hard for any public body to do a much worse job than the current system with its dangerous cyclical nature.

Good points. I am certainly in agreement that improving capital constraint alone is insufficient, and that there needs to be some sort of brake on bank asset expansion. Personally I'd prefer it to be a tax disincentive rather than an absolute monetary limit on debt.

I don't personally agree with the idea of a public body deciding how much banks should lend, because it would amount to civil servants picking winners, which they are notoriously bad at doing. In my view the job of the government is to regulate banking, not to take it over.

If the government announced a (partial) jubilee on private debts, wouldn't this largely result in loss of savings through loss of property equity, rather than loss of bank deposits?

Also, you mention above a tax disincentive to asset expansion, wouldn't the best form of tax for this be a tax on the land against which banks have been so keen to lend? Especially if the tax falls on the beneficial owner (legal charge) rather than (or as well as, proportionately) the legal owner?

1) No, it wouldn't, unless for some reason cancellation of mortgages caused house prices to fall. The immediate hit from cancellation of existing lending would be borne by the shareholders, bondholders and depositors of the lending institutions, and in the last resort by the Government. If the Government bailed out those lenders by issuing new debt then it would not be a debt jubilee at all - it would simply move the debt from the private to the public sector. If the Bank of England monetized the debt (printed money to pay it off) the debt would then be on the Bank of England's balance sheet, but the cost would still be borne by savers in the form of higher inflation from all that money printing. However you look at it, cancellation of private or public debt (debt jubilee) also wipes out people's savings, particularly their pensions.

2) A land value tax could actually increase mortgage lending, since it would act as a disincentive to developers to keep land undeveloped.

What effect, if any, does a fall in property value have on bank solvency? ie is the value of the security on a loan in any way reflected on their books?

Regarding point 2, it's true that land would be put into more productive use, but it would not lead to higher debt because the cost of buying land and houses would not be anywhere near as much as it is now, because of the tax.

More generally, based on what you've said, surely the huge debt deflation we are going through is hugely deflationary, isn't it? Where will inflation come from?

1) Collateral such as property is a contingent claim recorded off balance sheet, so strictly it's not on their books. But it reduces the risk of the loan which affects the capital allocation. A fall in property values reduces collateralisation which increases risk and may therefore require more capital.

2) You are assuming that the price of land and housing would fall significantly if a land value tax were applied. I'm not convinced. People still need somewhere to live, so I'd expect demand for primary homes to be pretty inelastic, in which case LVT would have little effect on the price of an average three-bedroom semi.

3) Normally debt is paid off from existing savings, which reduces the money supply and is therefore deflationary. If debt is paid off by printing more money instead of using existing savings, the deflationary effect is cancelled out and more money ends up in circulation. This can be a good thing, as increasing the money supply is a demand stimulus (as in QE, for example). But unless production increases hugely to mop up the excess money (demand), I would expect inflation to occur later on unless measures are taken to withdraw the extra money from circulation once growth gets going. When you print money you debase your currency, which reduces its purchasing power and therefore tends to lead to inflation.

My general view is that there is no solution to excess debt that does not in the end lead to reduction of savings. I agree that monetization looks like the least worst option, but since I don't think there's any such thing as a free lunch, there has to be a cost somewhere and I reckon it is future inflation.

I don't see there's any doubt that the price of land would fall significantly with the introduction of LVT, assuming the LVT captures the whole economic rent because money that would normally be available for servicing the debt incurred in acquiring the land would now be diverted to paying the tax.

I understand that money printing debases a currency, however, my feeling is that the debt is so colossal that any money printed simply vapourises. The amount of money printed would have to be in the trillions to make up for the loss of assets, or 'savings'.

1) If people need somewhere to live they will pay both the debt and the tax, diverting money from discretionary spending instead. Assuming the current shortage of houses continues, introducing LVT would therefore have little effect on house prices, as I said before, except in certain sectors such as holiday homes. What would make a huge difference would be increasing the supply of houses.

2) To monetize debt fully you have to print the same amount of money as the value of the debt, of course...which would be trillions. And if debt were monetized there would be no loss of savings, because the debt would be transferred to the Bank of England's balance sheet. In order to eliminate debt you have to reduce savings. Maintaining the money supply by transferring the debt to a public balance sheet of some kind doesn't reduce debt, it just moves it around - and the ensuing imbalance between debt and savings in the private sector would be a very considerable demand stimulus which would be likely to cause inflation. Actually wiping out excess debt requires deflation.

1) That's nonsense. The supply is there but it is criminally under utilised. If the tax takes 100% of (economic) rental value, how on earth can the land retain its previous untaxed value? If it does, the tax is clearly not 100% and will simply increase. It is a mathematical impossibility for the land to retain its value while taxed in full.

It is a myth that supply and demand is the problem in the housing market.

2) As I thought. I don't understand therefore why we are going down the monetisation route, since it will not clear the debt. It simply moves it around. As Michael Hudson says, debt that can't be repaid won't be, so this policy guarantees a disorderly default rather than an orderly writedown of debt. Surely deflation is ultimately inevitable? I think I'm still missing something!

1) The success of LVT depends on how effective it is at bringing into the market property that is presently being held empty for speculative purposes. I agree it's a bit of a balancing act - if enough new property comes on to the market as a consequence of LVT, prices will fall. The UK's housing problems are to a considerable extent explained by under-supply.

I don't think you can tax anything 100%.

2) Because deflation is very painful and allowing it for long is politically suicidal. However, inflation also reduces debt, proportionately....which is why monetization can seem an attractive alternative.

1) LVT's success could also be measured in its wider impact on the economy. eg making the economy more competitive whilst increasing wages by shifting tax off wages & savings and by reducing inequality of income & opportunity.

I see no reason why economic rent cannot be taxed at 100%. You'd have to get the valuations right obviously, but the software and processes are available to do this and are widely used eg in Scandinavian countries.

2) Is deflation really that painful? UK was a deflationary economy for the whole of the 19th century, yet it grew faster and richer in that period than any other. In a deflation, your purchasing power increases & therefore your quality of life improves (yes I know, assuming you still have a job-but that's true with excessive inflation as well isn't it?). Japan has been deflationary for 20 years, yet by any measure they're better off - fewer mental health issues than us, their children are happier, they live longer & healthier lives, their young people use less drugs and fewer get pregnant in their teens etc. etc.

1) Getting the valuations right is a very big "if". Trying to keep up with a moving market is an even bigger one. That's why I don't think you can tax at 100%. Anyway, why would you want to?

2) High inflation and rapid deflation are both painful - one is as painful than the other. The sort of deflation that would happen with debt jubilee would be of the rapid and painful variety, not the slow and (by comparison) relatively painless deleveraging that Japan has experienced (and I think we are beginning to experience). I really don't think you can compare the situation now with the UK in the 19th century, which was the heyday of the British Empire, of course.

1) It's not a very big if at all. It can be achieved andnas Insaid earlier, is done in a number of countries.

Why would you want to? Now that does ask for a long answer. Briefly, to take speculation out of land, end the reign of the free lunchers and to raise public revenue in the way conceded by every economist worth reading to be the most efficient. Moving the tax burden away from the productive economy and onto rentiers would create a more efficient, equitable economy, create jobs and reduce the wealth gap etc etc.

2) I think we're going to see deflation as well but I thought you thought the central banks would print whatever amount of spondoolas it takes to avoid that?

1) I read up a bit on LVT....I know it's popular at the moment but like everything, it's not that simple. There will be screams about little old ladies who have worked all their lives to pay for their property suddenly being hit with huge taxes, people being taxed on property they have bought from taxed income (double taxation)....yes, I know it's land not property but the distinction is a fine one and it would inevitably be seen as a property tax.

LVT in the US has a better chance of working because they still have tax relief on mortgage payments there. We abolished it years ago, but if we go for LVT we would probably have to reintroduce it to avoid the double taxation problem, which would largely negate the tax disincentive to buying property and therefore prop up property prices. I don't think that LVT would be the panacea that everyone seems to think it would be. Maybe I'm just a pessimist.

2) Well, the BoE seems to be doing just that. Deflation is necessary, so in using QE to counteract it the BoE is slowing down the deleveraging process. This should make it less painful, but may delay economic recovery. Unfortunately if the purpose of QE is to take the "edge" off necessary deflation, it fails if banks aren't lending....

QE is, of course, a tax on savings, because it depresses the yields on government debt. Large amounts of QE would clobber pension holders. And in a very large QE program, such as that suggested for the ECB, the central bank's solvency is at risk, which carries implications for government - it is government that provides capital for central banks. QE is certainly not cost-free. Whether or not it is inflationary is a matter of debate.

Thanks for a very informative post. I've been waiting a while for some intelligent counters to the Positive Money campaign stuff.

Just one thing, though.. If we're gong to use balance sheets to help us picture what's going on here, let's not be so quick to say that equity and retained earnings are money that's owed to nobody. Every good accountant knows that these are liabilities too, which is why we call them 'shareholders' funds'.

Strictly, shareholders' funds are not "owed", they are money received in return for a share of the company, i.e. a sale. And unlike debt, they are fully at risk if the company goes bust. Debt and liabilities are not quite the same thing.

"Deflation is necessary, so in using QE to counteract it the BoE is slowing down the deleveraging process"

Please no liquidationism! Poor Milton Friedman would be turning in his grave if he heard this stuff.

Deleveraging is an attempt to reduce the debt/income ratio - both terms are nominal.

Monetary policy can push up the level of spending in the economy - and hence, the level of income - both in nominal terms. Doing so naturally aids deleveraging. Trying to make income shrink, or grow less slowly, will make deleveraging harder.

"QE is, of course, a tax on savings, because it depresses the yields on government debt"

The 10yr gilt yield was around 3% in March 2009 when the first round of QE began - it had risen to around 4% after £200bn of gilt purchases.

Deleveraging 1) reduces broad money 2) diverts economic activity from spending to saving, since economically deleveraging is equivalent to saving. Therefore deleveraging is intrinsically deflationary. If the preference of the private sector is to deleverage, deflation will inevitably happen - that's what I meant by "necessary". This is not an argument for liquidationism, just an economic observation.

The question is whether you WANT the private sector to deleverage, and if so, at what rate. QE is a way of slowing down the rate of private sector deleverage - although I don't think it works if bank lending is abnormal. The new money created through QE only gets out into the "real" economy through new bank lending. Therefore QE may help the private sector pay off existing debt, but it also creates more debt - so the deleveraging process is inevitably slowed or even stalled. This could be a good thing, since rapid deflation is economically disastrous and the cost in terms of human misery is appalling - as we are seeing in Greece at the moment. The problem of course is that if the private sector wants to pay off its debt it may be really quite reluctant to borrow more.

Absolute debt levels can only be reduced through deflation, but relative debt levels can of course be reduced through growth and/or through inflation. Ideally one would want economic growth so that incomes rise, which would make actual deleveraging easier as well as reducing the level of debt relative to income. QE could encourage growth, and it may also create inflation. Either way, relative debt levels should fall - if it works.

QE absolutely is a tax on savings. Reducing the quantity of gilts in circulation raises the price and hence depresses yields. If it were not for QE, therefore, I would suggest that yields at that time would have risen even more.

"The new money created through QE only gets out into the "real" economy through new bank lending"

This is a rather mechanistic view of QE. The BOE has always targeted non-bank holders when buying gilts. The non-bank sector (e.g. pension funds) can put new base money into the real economy via the capital markets, it does not require financial intermediation.

Of course, the banks are always *used* to do this, but they are not the drivers of the activity.

"Reducing the quantity of gilts in circulation raises the price"

So what do you really mean by a tax on savers? Gilts make up about 20% of my savings. If QE raises gilt prices, the value of my savings has increased - if only we had more taxes like that! Do you really mean that QE reduces the *incentive* to save?

And of course debt is created when corporates issue bonds. If the new money is simply used to buy existing issues then it doesn't get into the "real" economy - it just churns on the financial markets. If it is used for new investment then new debt is created. The grey area is equity investment, of course - for the purposes of this article I have treated equities as illiquid assets rather like property, since they represent part-ownership of a company rather than an amount of money loaned.

QE is more correctly a tax on income from savings. The value of your savings may have increased but the return on them has diminished. The depressed yields particularly reduce the income of people in receipt of pensions, for example.

"Positive Money would like to change this, of course. In effect their proposal is to introduce reserve constraints on lending: they want banks to obtain reserves in advance of lending and only lend up to the limit of those reserves."

I’m not sure if you haven’t read positive moneys proposals in full or if you are trying to simplify things, but that is not what positive money’s reforms are about. To borrow a quote from a blog on positive money: “There is no reason, whether on the grounds of efficiency or prudence, why those who have earned or otherwise legitimately acquired the ability to make payments should not hold the state-issued means of payment directly, rather than in the form of promises from banks.”

This is the key part of positive moneys reform – in a sense all money would become “reserves” and individuals would be allowed a choice of two accounts. One where there money is kept 100% safe, and another where they would receive an interest rate but would also have to take some risk. In so doing moral hazard would be eliminated and risk and reward would be aligned. To quote Mervin King:

“eliminating fractional reserve banking explicitly recognises that the pretence that risk-free deposits can be supported by risky assets is alchemy. If there is a need for genuinely safe deposits the only way they can be provided, while ensuring costs and benefits are fully aligned, is to insist such deposits do not coexist with risky assets. The advantage of these types of more fundamental proposals is that no tax or capital requirement needs to be calibrated.” (http://www.bis.org/review/r101028a.pdf)

This would mean that the taxpayer was finally off the hook, banks would be allowed to fail, and we would be living in a capitalist society, rather than current version which is a bit like socialism for the rich. Asset bubbles would be much harder to blow up as well, and in recessions the money supply would not shrink, creating debt deflations.

You then say: “and banks would not be allowed to lend to each other.” This is not true – of course they would be.

And then “The ICB (correctly, in my view) rejected Positive Money's proposals for bank reform on the grounds that they would be unnecessarily restrictive of credit”.

Well yes, credit would be restricted somewhat. But is this a bad thing? The money supply has more than doubled in the last 10 years. And house prices have increased even more than that, as a direct result. This is of course of great harm to the young and the poor. In fact only 8% of all bank lending goes to productive (i.e. GDP contributing) sectors. The majority instead goes to financial institutions, real estate companies and for mortgages. Whilst these are all useful I would suggest a great deal of this lending was a direct cause of the crisis we are now in. Furthermore currently 60% of the money supply is held in time deposits, so lending would not be restricted so much.

I believe a good discussion of some of the issues I have made can be found here (http://worthwhile.typepad.com/worthwhile_canadian_initi/2011/12/blue-sky-money-two.html). As the author states:

“Banking is a subset of finance. Money and finance go together. Money and banking go even more together. But they don't have to go together. Maybe they didn't ought to go together. Finance is unstable. Banking is even more unstable than the rest of finance. A bank makes promises it knows it might not be able to keep. A bank is an accident waiting to happen."

Oh and additionally, I'm not sure who said this: "To argue that banks don't need to borrow to settle loans because they can invent the money is simply wrong"

I agree - you are right. Are you sure positive money said that? Of course the distinction needs to be made between reserves and deposits, which are very different types of 'Money'. My hunch is that perhaps someone said you dont need any depositors to make loans.

Their proposal is that the MPC should create, IN ADVANCE of lending, all the money that it considers the economy will need. At present the Bank of England's normal creation of bank reserves (base money) is reactive, i.e. it responds to demand. I refer you to my comment above in which I describe the way in which the banks balance their reserves at the end of each day. This reserve balancing act is the lifeblood of banking and depends on the interbank lending market. Central banks only "top up" reserves by creating money when 1) commercial banks are unable to balance their reserve accounts by borrowing from other banks 2) the central bank itself has no existing reserves (deposits from other banks) to lend. What Positive Money proposes is that MPC should forecast accurately how much the central bank will need to create to ensure bank reserves are always fully balanced, and the central bank will create that in advance. I think the MPC would need a crystal ball to achieve this, frankly.

Positive Money has also suggested that the central bank should be the only source of reserves, rather than (as at present) the lender of last resort. Commercial banks generally prefer to borrow from each other rather than from the central bank. If the central bank were to be the only source of reserves - in effect acting as intermediary between depositor banks and borrowing banks - it would kill the interbank market stone dead. As is already happening in Europe, of course.

You don't seem too clear as to what "reserves" are. "All money" already is reserves - Positive Money's proposals don't change that. The difference between the current situation and their proposal lies in when and how those reserves are created. But you only discuss customer deposit accounts, which are far from being the sole source of bank reserves.

Positive Money's proposals would exclude current accounts from reserves. But it isn't necessary to micro-manage the money supply in order to achieve this. All that is necessary is to change the definition of current accounts. At present they are regarded as deposit accounts and included in available reserves for loan settlement. They could very easily be excluded from this without fundamentally changing how the financial system works. Mervyn King's idea is slightly different from this, in that he proposes that customer deposits should be backed by secure liquid assets such as gilts.

I beg leave to differ on the subject of the usefulness of mortgages. The major part of UK household debt is indeed mortgages. But aspiring to buy a house is dear to the hearts of many people, and the majority of mortgages are granted to ordinary people to enable them to buy a modest house as their primary residence. Seriously restricting the availability of mortgage finance would hurt a lot of people. It wouldn't be the very rich who would be denied the opportunity to own property - it would be ordinary people on ordinary wages. Yes, we have had periods of irresponsible lending causing house price inflation. I don't defend this. But I don't think denying ordinary people the finance they need to buy a house to live in is the right way to deal with this problem.

You see, the problem when credit is restricted is that banks target their lending to the safest risks, which in practice means those who already have money. The people who most need credit - including the small businesses that we need to encourage - become even less likely to get it, while the rich are offered incentives to borrow for unproductive investment. We've seen that happen every time there is a credit crunch.

And finally. That comment about banks not needing to borrow has been made many times by people who support Positive Money's ideas - not least, in the comments stream on the Positive Money article I linked to. So if Positive Money didn't actually say that, they have managed to give that impression to an awful lot of people.

I will try to take your points one by one, however I would encourage you to re read PMs proposals as you have misunderstood them.

You state “You don't seem too clear as to what "reserves" are. "All money" already is reserves - Positive Money's proposals don't change that.” And also “But you only discuss customer deposit accounts, which are far from being the sole source of bank reserves.”

All money is not reserves, in a macroeconomic sense , and customer deposit accounts are not a source of reserves. Money is currently made up of central bank created money (reserves) and private bank created money (deposits made when loans are made). Reserves are created as a bookkeeping entry on the central bank’s balance sheet, in the same way that deposits are created as a bookkeeping entry on private banks balance sheets. Thus only the central bank has the power to create or destroy reserves, in the same way that only private banks have the power to create or destroy deposits. Although as you state the central bank is often passive and responsive, as to do otherwise can create liquidity problems for banks. However QE has changed this somewhat.

The Key point is this: Positive money’s proposals fundamentally change the way that money works – there should no longer be two types of money – money should no longer be allowed to be created by private banks through a bookkeeping entry as debt. Instead the central bank creates all the money in the economy and this is spent into the economy (enabling the economy on aggregate to pay down its debt). Banks are then relegated to the role of intermediaries. Rather than issuing new claims on existing resources (by creating deposits) they simply reassign already existing purchasing power.

You state: “If the central bank were to be the only source of reserves - in effect acting as intermediary between depositor banks and borrowing banks - it would kill the interbank market stone dead.” And also: “This reserve balancing act is the lifeblood of banking and depends on the interbank lending market. Central banks only "top up" reserves by creating money when 1) commercial banks are unable to balance their reserve accounts by borrowing from other banks 2) the central bank itself has no existing reserves (deposits from other banks) to lend.”

This is where I feel we are talking across each other. The point of PMs reforms is that all money in current accounts is taken off private banks balance sheets and placed into a custodial account held at the Bank of England.

Currently banks need to borrow reserves from each other in order to settle payments on behalf of their customers. With deposits held at the central bank, banks would no longer need to borrow from each other to do this, as individuals would own the state issued means of payment directly (i.e. reserves). Thus any problem with a bank would not affect the liquidity of the payments system, which is the problem we face today.

So when you state: “What Positive Money proposes is that MPC should forecast accurately how much the central bank will need to create to ensure bank reserves are always fully balanced, and the central bank will create that in advance. I think the MPC would need a crystal ball to achieve this, frankly.”

No! What positive moneys proposals state is that all current accounts are held off banks balance sheets and on the bank of England’s balance sheet in a custodial account. Private bank’s will therefore not be able to create money as balance sheet entries. Therefore the MPC will not need to guess how much bank lending will be then create the right amount of reserves to balance these new deposits – because the act of bank lending will not increase deposits on aggregate. Instead one person will give up access to their deposit (and receive an interest rate, like a time deposit now) where as the other person will receive this deposit as a loan. But crucially the amount of deposits has not changed in aggregate.

In the paragraph that starts “I beg leave to differ on the subject of the usefulness of mortgages.”

I am not saying consumption smoothing is not useful. But the problem is that by letting banks lend more and more for mortgages they have pushed the price of housing up massively. One generation benefited massively. But these mortgages pushed house prices up. The subsequent generation found that they had to go into debt for 5 years more than the previous generation. House prices were pushed up again, and the subsequent generation found that they had to go into debt for 5 years more than the previous generation. And so the process repeats, and we now have a situation where the young and the poor can’t afford to buy houses anyway, despite 100% mortgages.

Finally: “You see, the problem when credit is restricted is that banks target their lending to the safest risks, which in practice means those who already have money. The people who most need credit - including the small businesses that we need to encourage - become even less likely to get it, while the rich are offered incentives to borrow for unproductive investment. We've seen that happen every time there is a credit crunch.”

I would encourage you to read Stiglitz and Weiss’s 1981 paper “Credit Rationing in Markets with Imperfect Information”, which deals with this very subject. In short they find that credit rationing need not occur. If it does, of course there are always credit guidance mechanisms which were massively successful in the Asian tiger economies, and more recently worked wonders in China.

I repeat, I do understand Positive Money's proposals. And with respect, I understand the workings of reserve banking perfectly well, thank you.

You keep on going on about current accounts. Current accounts are currently treated as sight deposit accounts. Positive Money's proposals would change them into safe deposit accounts. That is all. That does not fundamentally change the way reserve banking works. All it does is reduce the volume of deposits available for lending. Even under Positive Money's proposals, time deposits would still be available for loan settlement or, if you prefer, "lending out".

The aim of Positive Money's proposals is to ensure that banks can only lend money they ALREADY HAVE, whether in the form of customer deposits, the proceeds of bond issuance, borrowing from other banks IN ADVANCE of expected lending, or reserves at the central bank IN ADVANCE of expected lending. These last two require forecasting of expected lending requirements, the second is limited by capital structure and the first will as already discussed be seriously reduced by the removal of current accounts from available deposits. Their proposals would end the end-of-day reserve balancing process and replace it in effect with a start-of-day forecasting process - or start-of-month, or start-of-quarter if the MPC's money supply forecasts were tied to its inflation forecasts (which are usually wrong anyway). Further, if banks reached their limit of available deposits and other funding for lending, they would simply have to stop lending. Which would cause a credit crunch - which as I have pointed out tends to disproportionately affect poorer people and small businesses.

1981? You really shouldn't rely on papers as old as that. And you should not claim success stories from schemes like this without checking your facts. The Asian tiger economies crashed spectacularly in 1997 when asset values collapsed and highly-indebted individuals and corporates defaulted (does this sound familiar?), made worse by attempting to hold together a fixed exchange rate system while imposing IMF-driven austerity measures. They have recovered since, but they now function as market economies with a financial system very similar to that in the West. China currently has massive public, bank and corporate debt levels especially at municipal level, and an enormous construction bubble (Ireland to the power of at least 100) which will burst catastrophically in the next few years.

Reserves are currently needed to settle payments between banks, when money is transferred from one person’s bank account to another.

The value of customer deposits far exceeds the quantity of reserves.

On certain days the value of the payments from bank A’s customers to other banks’ customers will far exceed the quantity of reserves which bank A holds.

Thus, bank A will find that they have to borrow reserves from other banks in order to settle payments on behalf of their customers.

Under Positive Moneys proposals:There are no longer two types of money, just one. There are no more central bank reserves (or alternatively, you can think of their only being reserves).

All money would be held on the bank of England’s balance sheet.

All money in current accounts is taken off private banks balance sheets and placed into “custodial” accounts held at the Bank of England. (known as transaction accounts)

So when customers are looking at their bank account they are actually looking at the money they hold at the Bank of England.

So transactions between current accounts are settled across the Bank of England’s books. There is no involvement from private banks in this process.

With regards to lending and borrowing under Positive Moneys proposals:

When someone wants to lend money, and receive an interest rate in return they place their money in an “investment account”.

This money is then transferred from their bank account (aka their “transaction account”) at the bank of England to their banks bank account at the bank of England (aka their “investment pool” account).

From this account it can be lent out. This process transfers money from the banks “investment pool” account (at the bank of England) to the borrowing customers transaction account (at the Bank of England).

At no point in this process did the bank of England have to forecast anything.

At no point in this process did the any transactions occur which were not on the Bank of England’s balance sheet.

At no point was any deposits created or destroyed by loans being made or repaid.

As for your comments on 1981 – since when did the truth have a time limit? Should we stop teaching Newton’s laws in physics now?

And as for Japan – yes they had a housing bubble. It happened in the 80’s when they got rid of credit guidance.

I really don't know why you keep going on about current accounts. They aren't relevant to this discussion, since Positive Money's proposals are that they are simply made unavailable for customer lending - a proposal I support, by the way. Could you please stop talking about current accounts and address the real issue I have raised, which is the massive credit crunch that imposing 100% reserve banking funded only by customer deposits would cause?

Where do you think people put their long-term savings these days? It isn't in banks. It's in pension funds and insurance companies. Retail deposits are NOWHERE NEAR enough to fund bank lending to retail customers. Therefore 100% reserve banking, plus the exclusion of current accounts, would cause the mother of all credit crunches.

When you are discussing "reserves" versus deposits, you are comparing apples and pears. Of course customer deposits are larger than commercial bank reserves at the central bank. Banks don't generally keep large reserves at the central bank(except in Europe at the moment, but that's a sign of distress). The central bank pays pathetic interest on deposits, so the return simply isn't good enough. They lend excess deposits to each other instead - which suits banks who are net borrowers, because the central bank also charges penalty rates on overdrafts. Unless regulators set reserve requirements, reserve accounts are balanced to zero. Under Positive Money's proposals, reserve accounts would not be balanced to zero as at present - they would contain money available for lending, which could be lent out on a reducing balance basis until the balance was zero, when lending would have to stop (and presumably potential borrowers would have to be refused loans until someone deposited some more loanable funds). If you think banks would maintain positive reserves to accommodate future lending, you are naive. They would lend to the max and there would then be a credit crunch.

Some small banks are already 100% reserve banks. You might want to look at Kingdom Bank and Charitybank, for example. And there is nothing to stop someone setting up a 100% reserve bank if they wish to do so.

Regarding the forecasting question - yes, the MPC would have to forecast the money supply, because under this proposal the only way the money supply can increase is by the Bank of England creating money. A growing economy (assuming we have one) requires an increasing money supply. The MPC would have to forecast expected economic growth and inflation, and instruct the Bank of England to ensure the amount of money circulating in the economy was sufficient to permit growth without causing inflation. This is alchemy, frankly.

Economics is a changing "science", and many people would argue that much of the economics of the past is discredited. Stiglitz's paper hardly carries the same weight as Newton's laws - it is simply one research paper among many. You have chosen to believe what he says, but there doesn't seem to be much evidence to support it.

I did not mention Japan. I talked about the Asian tiger economies and China - both of which were cited by you as evidence supporting Stiglitz's ideas. I pointed out that neither is a good example. However, since you've mentioned Japan, I seriously question your assertion that they "got rid of credit guidance", and you are wrong to suggest that the Japanese crash was simply due to a housing bubble. The causes of that crash and the ensuing stagnation were complex, but one of the primary causes was a savings glut caused by the propensity of an ageing population to save instead of spend. There was also massive corporate debt. This paper is a useful analysis http://aparc.stanford.edu/research/causes_of_japans_economic_stagnation/I suggest you also read Richard Koo on the Japanese financial crash and stagnation.

I have tried to explain to you several times how positive moneys proposals would be fundamentally alter banking from how it occurs today, however, you continue to misinterpret the proposals and talk of reserves backing lending. I suggest you re read my posts.

You also seem to think that banks lend deposits: “Retail deposits are NOWHERE NEAR enough to fund bank lending to retail customers.” Banks do not need deposits to make loans, banks create new deposits when making loans. I suggest you read where does money come from, published by the new economics foundation (http://www.neweconomics.org/publications/where-does-money-come-from).

Also you are wrong about banks charging penalty rates on overdrafts at the central bank – the system changed in 2006. Equally reserve accounts are now always have a positive balance.

Yes there is nothing to stop a bank setting up 100% reserve now. But what would be the point when there is deposit insurance?

The effect of positive moneys proposals is to ensure a bank could to go bust without a taxpayer bailout as deposits would not be held on their balance sheet (but the bank of England).This is completely different from banks holding reserves to back the money in customer accounts.

Yes you’re right positive moneys proposals would reduce lending by banks to the money deposited in investment accounts. However, there are ways to alleviate credit crunches which are outlined in positive moneys proposals.

You say that “the MPC would have to forecast expected economic growth and inflation, and instruct the Bank of England to ensure the amount of money circulating in the economy was sufficient to permit growth without causing inflation. This is alchemy, frankly.”

Well right now they forecast growth and inflation and try to set interest rates accordingly (which implies a path for money growth rates). This is much more difficult than setting the total money supply.

You say that the cause of Japans stagnation was a savings glut. Yes it was. What does lending do? It increases deposits – it increases savings as you yourself mention in your post. What was the increase in lending for? It was for mortgages. So what was the cause of the crisis? Too much lending to unproductive sectors of the economy – housing to be exact. Hyman Minsky explains this all rather well.

And I didn’t say that the Stigltiz paper supported window guidance, I said that Stiglitz’s paper showed that restricted credit need not lead to higher collateral requirements or credit rationing.

Finally, economics is a changing science. However, many would argue that for few decades it has gone completely down the wrong path. Hence why most of the economics experts did not see the crisis coming.

No, I don't think that banks "lend deposits". I have explained in THIS POST exactly how lending creates deposits. You've just made yourself look very silly indeed by suggesting that. Go and re-read what I actually wrote before you embarrass yourself further.

There are other ways of preventing taxpayer bailout than reducing banks to mere intermediaries. By the way, who would hold the loan accounts - commercial banks or the Bank of England? It's not possible to leave loan accounts on commercial banks' balance sheets while holding deposits on the Bank of England's balance sheet. Are you proposing something like the American GSE model, where lenders relinquish the asset but retain servicing rights?

The MPC's record on forecasting growth and inflation is appalling, frankly. Since growth and inflation would have to be accurately forecast in order to determine the required money supply, to say this is "easier" is clearly wrong.

Re Japan - why are you still ignoring their vast corporate debt overhang? And why are you so opposed to mortgages? I've read Minsky, thanks. Have you read Koo, as I suggested.

"Window guidance" - presumably you mean credit guidance. Again, you are misreading me, and you've forgotten what you actually said too. Neither you nor I suggested that Stiglitz's paper supported credit guidance. You said that Japan's housing bubble was created when they "gave up credit guidance". I'm afraid the evidence does not support Stiglitz on collateral requirements or credit rationing. The evidence is that banks DO restrict credit and ask for more security when they don't want to lend for whatever reason, whether because funding is tight or because they are trying to repair their balance sheets. Stiglitz, like many economists, makes the mistake of seeing banks as passive intermediaries. They aren't. If they don't want to lend, they won't.

I don't see any point in continuing this discussion as you obviously aren't bothering to read and understand what I actually write. I'm prepared to be corrected on minor points, such as whether central banks charge penalty interest on overdrafts. But you have not addressed my major criticisms of Positive Money's proposals, and as you say, we are going round in circles. This conversation is therefore at an end.

I'm no expert, far from it but surely it's obvious that debt and savings overall are equal. A debt has to be owed to someone who therefore by definition has a corresponding amount of credit/savings. It's impossible to have one without the other.

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